05 Apr How can I avoid capital gains tax on inherited property?

Q. A person lives in Pennsylvania but owns an investment property in New Jersey. The person leaves the New Jersey home to their adult child, and the estate is being probated in Pennsylvania. What needs to be done to ensure the stepped up basis to avoid capital gains on the sale of the property?
— Beneficiary

A. We’re sorry for your loss.

When a beneficiary of an estate inherits property from a decedent, most assets receive a step up in basis to the assets date of death value.

There are assets such as retirement plans, IRAs and annuities that are not eligible for a step up in basis, said Gerard Papetti, a certified financial planner and certified public accountant with U.S. Financial Services in Fairfield.

As for your specific situation where real estate is the asset inherited, as with all non-marketable assets and securities, a valuation must be done as of the date of death to determine the basis of the inherited asset, Papetti said.

“Prior to 2015, there was no requirement to report and document the value that an executor and a beneficiary would use,” he said. “If the estate was a taxable estate, the executor may use the lowest value obtained to minimize estate taxes where the beneficiary would want to use the highest value to increase their cost basis to reduce capital gain taxes upon sale.”

But in 2015, Congress enacted IRC Section 1014(f), which requires the beneficiary to use a value for step-up in cost basis that is not larger than the value reported on the estate tax return, Papetti said. In the case where an estate tax return will be filed, the executors are now required to file Form 8971 with the IRS to document the inherited cost bases and who the beneficiaries are.

“In the situation where the estate is not required to file an estate tax return, supporting documents such as a market appraisal as of the date of death for the real estate should be obtained and maintained to document the step-up in cost basis if the asset is sold and the calculation of the gain is audited,” he said.

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This story was originally published on April 5, 2021.

NJMoneyHelp.com presents certain general financial planning principles and advice, but should never be viewed as a substitute for obtaining advice from a personal professional advisor who understands your unique individual circumstances.